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Is Boeing’s Strategy Airworthy?

Boeing

A look into the turbulent flight path that lies ahead, by Thunderbird students Alexander Espiritu, Robert Grimes, Carlos Flores, Brian Long and Arturo Furones Seco

As one of the two giants in the commercial aircraft industry, Boeing Commercial Airplanes (BCA) currently dominates a significant portion of the commercial aircraft market.  However, as that market continues to evolve, BCA faces a number of critical strategic issues; how the company chooses to deal with them will determine whether or not the company succeeds in maintaining a tight hold on its market share and future profits.  Amongst these strategic issues, the most serious challenges to BCA’s future operations are the new entry of additional competitors to the industry, supplier and partnership relationships, and relations between the company and its labor force.

The commercial aircraft market can actually be broken down into two separate sub-markets: wide body aircraft (multiple aisles) and narrow body (single aisle) aircraft.  With some exceptions, BCA and its primary rival Airbus currently hold nearly all of the market share in the international wide body arena.  However, in spite of the early success of BCA’s new 787 and Airbus’ A380 wide body jetliners, growth and customer demand in the wide body market is expected to be minimal compared to the massive demand forecasted for narrow body jetliners over the next 20 years.1 In the narrow body market, BCA faces much stiffer competition.  In addition to Airbus, other aircraft companies such as Embraer and Bombardier currently produce narrow body passenger jets.  A handful of Chinese and Russian aircraft companies such as COMAC and Sukhoi currently also have narrow body jet production plans for the near future.2

US based commercial airlines and air logistics companies make up a significant portion of BCA’s customer base.  While maintaining this set of traditional customers will continue to have massive importance for BCA in the future, the most industry growth is forecast to occur in the European and Asian air passenger markets.3 As of 2010, the top five airlines based on passenger statistics were Delta Airlines, Southwest Airlines, United Airlines, American Airlines, and China Southern Airlines, all of whom are mostly or entirely reliant upon BCA aircraft, to include both narrow and wide body designs.4

While BCA currently faces a significant production backlog based on a number of recent large orders, the airline industry is notoriously vulnerable to external pressures which can in turn have a massive effect on the demand for new aircraft.  Fuel price spikes, the threat of terrorism, credit market shocks, regulatory changes, new environmental restrictions, natural disasters, and regional conflicts can all wreak havoc with the airline industry; even sparing catastrophe, mere uncertainty in the industry drives down the demand for new aircraft purchases as well.5

Among the most important strategic issues facing BCA is in regards to new entrants.  The industry for large commercial airplanes is already a red ocean of competition mainly between BCA and Airbus.   Industry competition will continue to intensify as high growth emerging market nations seek to establish their own aircraft.  One example is COMAC, a government backed Chinese airplane manufacturer who threatens to offer their C919 large single aisle airplane at a cost lower than the competing Boeing 737 or Airbus A320.6 In addition, manufacturers of small single-aisle airplanes have the capital and expertise to compete, threatening to capture market share by offering large single aisle airplanes such as the Bombardier C Series.  New competitors in the large airplane market can take advantage of those customers unwilling to endure BCA’s long delivery lead times.  Airbus, BCA’s main competitor, has been expanding rapidly, building a new production facility in Alabama to compete head-to-head with BCA in the US market while driving down cost. As the design of commercial airline routes create higher demand for single aisle airplanes, BCA - an industry leader in the twin-aisle airplane segment - must consider whether to pursue competition in the single-aisle market segment.  And, as rival Airbus localizes production of their airplanes in markets where they compete, BCA must decide whether to do the same.

Increasing partnerships in emerging market nations has a political advantage as customers tend to patronize local manufacturers.  However, intellectual property – which is a source of competitive advantage for BCA – can be leaked through partnerships in regions where intellectual property laws are not strongly enforced.  Competing in the single aisle airplane segment may grow profits due to the increasing demand, but may also dilute Boeing’s brand if not executed properly.  By not pursuing growth in the single aisle airplane segment, BCA also risks losing sales for larger aircraft, as those customers with fleets of single aisle airplanes may decide to be brand loyal in purchasing large aircraft when the time is right.

BCA, historically, has been working with suppliers and outsourcing partners for a small amount of work load but its latest commercial airplane program, the 787 Dreamliner, marked a move from its traditional, in-house, design and manufacturing practices to more “cost saving” practices by outsourcing 60% of the project’s engineering and manufacturing activities around the world.7 Although Boeing’s intentions are good by trying to reduce cost with the use of outsourcing, consequences in the way they are using this strategy could be bad. Boeing is licensing its core competences, what has distinguished themselves from the competition. They are devaluing the so-called “’tribal knowledge’ that facilitates practical application of complicated, academic engineering concepts” required to build an airplane and that took them over 50 years to acquire.8 In addition, they potentially lose the opportunity to learn how to do the job and become somewhat less capable to do it in the future.

Among the reasons why to outsource this project at this scale are: reducing development cost, share financial risks and increase production rate. During full rate production, Boeing’s partners will ship their large pre-assembled sections of the aircraft to Everett, Washington where Boeing will conduct final assembly in 3 days. However, during early stages of development, there have been multiple delays (so far, the program is three years behind schedule) due to issues with partners’ products and schedules.7,9 Experts estimate this has caused Boeing to spend around $7-13B more to complete the aircraft.7 So why would Boeing outsource so much? It’s called strategic work placement. BCA is experiencing growing pressure to send work overseas in exchange of placing big 787 orders. This is particularly the case in Southeast Asian countries - the largest growing commercial market. Apart from the big orders, the fact that in some countries these companies are government-subsidized, like in Japan, helped Boeing feels safer and more willing to share the financial risks.10

Boeing has realized that it was too much outsourcing and they are trying to bring some work home to a more reasonable level for the 787 program. Boeing won’t be able to bring all the work back home for the 787 program but at least they need to work very hard with its partners to minimize the issues with the global outsourcing strategy, specially, the constant delays. The role of Boeing as systems integrator has contributed to lose control of its airplane, which is even worse when your partners have very little experience in the subject. Boeing will need to make sure that the lesson has been learned, recover the control of the activities and try not to lose it or share too much competitive advantages in next projects. Outsourcing will not likely disappear from Boeing horizon in a long time and proof of that is what the recently retired BCA CEO Jim Albaugh said: “I haven’t said keep most of the work in-house, I still believe we need to make sure we try to access the best technologies and capabilities that are available around the world”.11 As production on the 787 ramps up, only time will tell if the global outsourcing strategy was a good idea and if they will go for this strategy in the same scale once again in the future.

While new entrants and supplier issues threaten Boeing’s overall success, BCA is also faced with strategic issues related to labor and the challenge to produce more fuel efficient aircraft. For many years, BCA has heavily relied on organized labor in the US to manufacture nearly all of the commercial aircraft. BCA’s largest union, International Association of Machinists (IAM), represents nearly 45,000 Boeing employees in Washington and California.12 In 2008, the IAM organized a ‘walk out’ with nearly 27,000 employees to protest against Boeing’s recent outsourcing and wage changes. While the strike ended with both parties being able to mutually agree upon contract, it is estimated that the 8 week strike cost Boeing nearly $100M a day in deferred revenue and production delays.13 While it may be true that the unions help protect the worker’ rights, and immense negotiating power simultaneously increases cost for the company. It is the costs associated with the unions and the labor disputes that have forced Boeing to place an even greater importance on production labor.

Any work stoppages and slowdowns will destroy a carefully aligned product schedule and create a ripple effect throughout the airline industry. It hasn’t been until recently that labor unions have been at the forefront of BCA’s overarching strategy decisions. To maintain market based affordability among competitors Boeing has focused on reducing labor and overhead costs. To do this Boeing has made the strategic decision develop co-production in “right to work” states such as South Carolina – home to Boeing’s newest $750M production facility. This recent move by BCA did not however come uncontested by IAM. The challenge BCA will continue to face with the unions is that their power limits the ability for Boeing to make strategic business decisions. This limitation could undermine Boeing’s competitiveness if immediate actions are not implemented earlier to mitigate this growing risk.

Although commercial and business aircraft industry has been seriously affected by the global economic turmoil, forecasts for the next two decades suggest that revenue passenger kilometers (RPKs) will grow at about 5% per year, mostly expected to come from maturing economies and mainly from Asia.14 For these reasons, Boeing is required to address all the issues identified to remain a leader within the industry for the mid and long term.

According to some analysts, “new entrants are still to prove themselves credible in terms of delivering on time, delivering to performance and being able to support the aircraft” which will require time, something Boeing can take advantage of to improve its positioning by developing competitive advantages.15 Boeing should promote closer relationships with customers to better understand their needs. In this way, innovation would be adequately aligned with customers’ goals and Boeing would be well prepared to adapt to trends. At the same time, supplier relationships play a main role for the company being able to respond to the large forecasted demand, and Boeing’s success would heavily rely on its moves toward the imminent supplier consolidation within the industry.16 These acquisitions would be focused on companies that possess new technologies like engine components that improve fuel efficiency of airplanes, a crucial factor due to ramping costs of energy for the industry today. This is a key factor for the future success that would reinforce Boeing’s current strategy to improve operational costs and its corporate social responsibility programs.17 Boeing’s innovation development, will be directly affected by labor issues faced by the company, something that is currently influencing its strategic decisions towards “right to work” states, but even more important how the company will manage talent to reach its strategic objectives in the future. The National Science Foundation forecasts the number of science, technology and engineering to continuously decline in the next 10 years, something that would put in jeopardy Boeing’s capability to accomplish innovation development required to remain competitive.18

Over the next few years as global economies recover, Boeing’s responses to the strategic issues identified here will be tested and reveal clues as to whether the choices Boeing makes ultimately gave them a definitive competitive advantage.  There is little doubt that Boeing will continue to play a pivotal role in the commercial aircraft industry, it is just a matter of whether the company will continue to maintain its market share and maximize its potential profits.

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1 http://seekingalpha.com/article/272454-the-future-of-the-narrowbody-airplane-market

2 http://www.fastcompany.com/1835661/single-aisle-commercial-jets-get-international-makeover-update

3 http://seekingalpha.com/article/272454-the-future-of-the-narrowbody-airplane-market

4 http://www.nationsonline.org/oneworld/major_airlines.htm

5 http://www.usatoday.com/travel/columnist/grossman/2007-06-11-airline-challenges_N.htm

6 http://leehamnews.wordpress.com/2012/01/05/c919-gains-but-loses-advantages/

7 http://www.dailyfinance.com/2010/12/21/boeing-787-dreamliner-nightmares/

8 http://www.huffingtonpost.com/2011/01/20/a-wing-and-a-prayer-outso_n_811498.html

9 http://www.flightglobal.com/news/articles/delamination-prompts-boeing-to-inspect-787-fleet-367793/

10 http://www.cio.com/article/29096/Boeing_Versus_Airbus_Flight_Risk_Outsourcing_Challenges_

11 http://seattletimes.nwsource.com/html/sundaybuzz/2014125414_sundaybuzz06.html

12 http://www.iam751.org/pages/about751.htm

13 http://www.nytimes.com/2008/11/02/business/02boeing.html

14 http://www.deloitte.com/assets/Dcom-Global/Local%20Assets/Documents/dtt_holdingpattern_v3.pdf

15 http://www.flightglobal.com/news/articles/can-new-entrants-take-on-airbus-and-boeing-354587/

16http://www.deloitte.com/assets/Dcom-UnitedStates/Local%20Assets/Documents/MA/us_ma_threekeystoM&AeffectivenessforA&Dexecutives_012712.pdf

17 http://www.boeing.com/commercial/aviationservices/integrated-services/fuel-efficiency-solutions.html

18 http://www.nsf.gov/nsb/documents/2003/nsb0369/nsb0369.pdf

Supplemental Attachment

Partner Participation in the 787 Program

Picture 1

“Supply Chain Graphic of the Week – Boeing’s Risky Outsourcing Strategy”. Supply Chain Digest. 2007. Wall Street Journal. 17 Aug. 2012 <http://www.scdigest.com/assets/NewsViews/07-12-20-1.php?cid=1395>

Origin of the Parts in the 787 Program

Picture 2


“Building the Dreamliner”. The Seattle Times. Grunbaum, Rami. 2010. 17 Aug. 2012 <http://seattletimes.nwsource.com/multimedia/news/business/building-the-dreamliner/boeing-787.html>

Major 787 Assembly Sites

Picture 3


“Building the Dreamliner”. The Seattle Times. Grunbaum, Rami. 2010. 17 Aug. 2012 <http://seattletimes.nwsource.com/multimedia/news/business/building-the-dreamliner/boeing-787.html>